Company Stock Price Not Only Factor in ERISA Prudence

The U.S. District Court for the District of Massachusetts recently held that employer W.R. Grace and Co. and State Street Bank and Trust Co. did not breach their fiduciary duties when making the decision to divest Grace’s 401(k) plan of the Grace Stock Fund.

The court agreed with Grace and State Street that the current market price of Grace stock was only one of the factors they needed to consider to meet the prudent person standard of the Employee Retirement Income Security Act (ERISA). “ERISA does not require that a fiduciary maximize the value of investments provided to participants or follow a detailed step by step process to analyze investment options,” District Judge William G. Young said, in his opinion.

Young said the relevant question in the case was whether State Street took into account all relevant information in performing its fiduciary duty under ERISA. He concluded that State Street did consider various factors including: the current stock price, the Grace bankruptcy, the financial performance and outlook of the company and its industry sector, Grace’s potential asbestos liability, and Securities and Exchange Commission (SEC) requirements.

The plaintiffs argued that State Street overlooked the availability of other less risky investment options that could provide diversification and compensate for the high risk of keeping the Grace Stock Fund. However, noting that Grace engaged State Street and charged it with the single goal of determining the appropriateness of the retention of Grace stock, the court rejected the argument since State Street had no discretion to make decisions about the remaining investment options still available for the plan.

The plaintiffs recognized that, in other company stock cases, courts found it was prudent to keep the company stock even though the price dropped, but Young responded that the plaintiffs in other cases often argued that plan fiduciaries should have dropped the stock investment because they had knowledge that the price was likely to drop and that is what State Street did in this case.

The plaintiffs pointed out that Grace’s financial results were positive and it publicly announced it expected to survive reorganization, but the court concluded that State Street’s analysis showed “a potential for loss of value of the Grace stock comparable to knowledge of an impeding collapse.”

The court also denied the plaintiffs’ claim of self dealing on the part of State Street for lack of “any specific proof that State Street managed plan assets for a purpose other than the benefit of the plan and its participants.’ Since this Court found that State Street did not commit a breach of its fiduciary duties, Young said, Grace prevails in the case as well since the claims against it are derivative of the claims against State Street.

The Case

In 2003, a member of the Grace’s Investments and Benefits Committee informed plan participants that Grace fiduciaries were “seriously consider[ing]’ naming an independent fiduciary to operate the Grace Stock Fund in order to avoid any potential conflicts of interest arising out of the reorganization plan in Grace’s bankruptcy. The committee later selected State Street to serve as the independent fiduciary.

The goal of the delegation to State Street was to determine whether the fund’s retention or sale of Grace stock was appropriate. The investment guidelines included with its engagement letter noted that State Street could sell the Grace stock only if it determined that the continued holding of the stock was inconsistent with ERISA. State Street retained a financial adviser and a legal adviser for the decision.

After determining, in February 2004, that the Plan’s inclusion of Grace stock was inconsistent with ERISA and, therefore, imprudent, State Street gave Grace notice of its decision to begin selling the plan’s Grace stock.

After State Street sold the stock – at a price higher than market value – a group of participants filed a class action lawsuit against Grace, State Street, and other plan fiduciaries claiming, among other things, a breach of fiduciary duty.